Aprila Bank ASA (APRILA) Earnings Call Transcript & Summary

Welcome to Aprila Bank's Q4 presentation. I'm Halvor Lande, the CEO of Aprila Bank. And this is...

Kjetil, CFO of Aprila Bank.

So first, just a quick reminder of Aprila. We're a digital business bank providing credit to a large and underserved small business market. Q4 was a great quarter for us. We now have over 5,000 customers. We added 665 customers in the quarter, and 443 of these were credit line customers, which is our top priority product. Our gross income run rate was NOK 92 million coming into 2022. Gross income is basically the total amount of interest rate payments and fees we received from our customers. Our gross profit margin increased from 77% to 78% in Q4. Gross profit margin is what is -- what we have left of our gross income after variable costs such as commissions to partners, interest rate payments to our deposit customers and other external variable costs. So our run rate gross profit before losses and fixed costs are now at NOK 72 million, up from NOK 57 million at the end of Q3. And last but not least, we added, according to our customers, more than 300 jobs to society in the last 3 months. This is an important motivation for us to work in Aprila. And our shareholders should also be proud that their investments is making a positive contribution in society. Not only was Q4 great. I'm super proud of what the bank has achieved in 2021. In 2020, Visma informed us that they were going to take over our spot factoring customers, which at that point in time represented 80% of our income. We, therefore, decided to double down on credit line, and this bet has paid off fantastically. Credit line income more than quadrupled in 2021 and now makes up more than 2/3 of the bank total income. And the success in credit line has grown the total income of the bank by over a factor of 3 from NOK 16 million in 2020 to more than NOK 50 million in 2021. The only downside of growing so fast is that we have to take a lot of upfront provisions for loan losses. According to new international accounting rules that were introduced in 2018, we have to take full loan loss provisions upfront when we onboard new customers. The result is that the 443 new credit line customers we onboarded in Q4 contributed much more to our loan loss provisions than they contributed to our revenues. Revenues accrue over time in the form of monthly interest rate payments, but loan loss provisions are booked upfront. Therefore, we had to book 28% of total income in Q4 as provisions for future potential losses. But despite this accounting effect, I'm still confident that we will be profitable already in Q2 and Q3 and very profitable from Q4 and onwards. Our total income has already surpassed our total cost, including depreciations. So we are already profitable before loan loss provisions and realized losses. Our underlying product profitability continues to improve. Gross margin, as I mentioned, is now at 78% and increasing. As a result of this, I expect our return on equity to surpass 10% already in Q4 and climbed well above 30% in the next 3 years in combination with continued strong growth. This means that our shareholders can look forward to large and increasing dividends from 2025. What I'm particularly proud of is that we have been able to accelerate our revenue growth. Our first full year operation was 2019, and we managed a decent growth of over 100% in our second year, 2020. But in 2021, we managed to accelerate gross income growth from 134% to 171%. Gross income, as I said, is the sum of all interest rate payments and fees we received from our customers. But our total income grew even faster with 206% from 2020 to 2021. This is great news because our total income is what we live off. Total income is what remains of gross income after variable costs such as commissions to our distribution partners and interest payments to our deposit customers. And total income has grown consistently throughout 2021 by 19% from Q4 2020 to Q1; 24% from Q1 to Q2; 25% from Q2 to Q3; and 26% from Q3 to Q4. And in Q4, our total income in the period was NOK 17 million, which was more than the full year income in 2020. After we decided to double down on credit line, the income from credit line has more than quadrupled over the last year. We are deliberately not focusing on or investing in spot factoring, which is the main reason that the growth there is flattish. As you can see, our total income growth is driven by credit line, which now constitutes 69% of our total income. Just a comment. If you have any questions, please write them in the chat. We're doing this in English. So if you can write the question -- if you're able to write the questions in English, that will be a great help for -- when we answer them. The growth in credit line income is driven by both growth in number of customers and income per customers as you can see on the right-hand side of this page. Income per customer has grown by 91% since Q4 last year, and this has been driven by 4 factors. Number one is that average lending balance from our customers has been climbing steadily from under 110,000 in the end of Q4 to over 130,000 now. In 2020, we also issued a lot of government-backed loans, which have much lower interest rates. So that -- the fact that the share of those are lower now means that our average interest rate is higher. We've also done a lot of price optimization to correctly price risk, which has resulted in an average increase in interest rate. And we added a monthly fee, a flat fee of NOK 249 per month for each customer. And if anything, this only seems to have increased demand for the product. However, the majority of the growth is coming from new customers driven by ever-increasing demand. Most of the demand is coming from our direct marketing efforts. However, an increasing share of our new customers say that they have been recommended Aprila from another Aprila customer. This is supercool because, a, our customers are so satisfied that they recommend us to other; and b, our growth is becoming increasingly viral and self-sustainable. In 2021, we entered into a partnership with DNB, and the Aprila credit line is now available inside the DNB online bank for businesses. However, DNB has not actively started marketing this yet. So the DNB part of the applications is still less than 10% of the total application volume. 70% of all our credit line applications are coming directly to aprila.no as a result of our direct marketing. The application volumes are so high that we've had to reduce our direct marketing because we've got more applications than we can handle. And yet, only 4% of Norwegian businesses have heard about Aprila Bank, which indicates that we have a high potential for future demand growth. So right now, we're doing 3 things. We're automating even more of the customer onboarding process. We're staffing up slightly to increase capacity, additional capacity, to handle applications. And we're investing in brand building to build awareness of Aprila. I believe that so far, we've only seen the tip of the iceberg for underserved credit demand among Norway's 400,000 small businesses. Since Q4 2020, total income has grown by 130%. And total costs, including depreciations, has decreased by 12%. This development illustrates the underlying scalability and profitability of Aprila's business model. Since we invest continuously in technology to improve automation, self-service and machine learning to optimize cost, price and risk, our cost base and income base are almost completely disconnected. Our fixed costs are high, about NOK 50 million, but our variable costs are very low, only about NOK 1,000 per customer per year. This is currently less than 10% of our cost base. And cost to serve is declining as a result of continuous investments in automation and self-service. The downside of this business model is that it has taken us a long time to become profitable. The upside is that once we get profitable, we'll become very, very profitable. Going forward, I expect total income to grow 70% to 100% per year, whereas costs will only grow at 10% to 12% per year. This means that already in 2024, our total income will exceed our cost base by NOK 200 million, and our net profit after losses and taxes will be more than NOK 100 million. From 2024 and onwards, I expect a return on equity of well above 30% and increasing while the top line will still be growing 30% per year, at least. This combination of growth and profitability is very rare, especially in banking, but our business model is designed to achieve this. And in Q4, we reached an important milestone. Total income surpassed total cost and are now profitable before loan loss provisions and realized losses. However, rapid growth comes with a peculiar kind of short-term downside in banking. In 2018, a new accounting standard, IFRS 9, was introduced to all EU banks. The purpose of IFRS 9 was to reverse the problems of the old accounting standard, IAS 39, regarding impairments and provisions. The problem became apparent under the financial crisis when losses started showing up in profit and loss statements much later than worsening financial conditions have become apparent. Under IAS 39, a provision was made only when an impairment was realized. IFRS 9 states that banks have to book potential future loan losses upfront at the moment loans are originated. This hits our credit line product, particularly hard. All our credit line customers has a very real probability of defaulting at some point in the futures -- in some point in the future. And yes, we have a guarantor who backs the loan, but that guarantor might die or emigrate. So we cannot be 100% certain that the loan will ever be paid back. Following IFRS 9, we set aside potential future losses upfront at the moment of onboarding. The loan loss provisions vary by customer. On average, they're around NOK 6,000. If the customer actually defaults or the probability of default increases, for instance, because of reduced equity for the customer, we increased the loan loss provisions. On average, the loan loss provisions increased by about NOK 2,500 per year per customer. So far, we had NOK 0 in actual losses. But once actual losses do occur, we'll convert the corresponding loan loss provisions to realized losses. The average customers takes about 3 months to draw up the credit line balance. And from there, they pay about NOK 2,400 in interest rates and fees per month. In addition, we have commissions, funding costs, variable costs of about NOK 80 per customer per month. This means that the profit and loss impact of every new customer is negative for the first quarter as you can see in the graph on the top of the page. In the first year, on average, the loan loss provisions are about 34% of the gross income. But after 2 years, the loan loss provisions are less than 25% of gross income from the customer as you can see on the graph on the -- in the bottom hand corner. This means that the ratio of loan loss provisions to gross income will be elevated when we're growing fast. In Q4, for instance, new credit line customers accounted for 10% of our gross income but more than 1/3 of our loan loss provisions. IFRS 9 has been a major change for the banking industry as a whole, not only us. The old -- under the old accounting regime, it was possible for new banks to become profitable very quickly as they did not need to start booking losses before they actually started occurring. For instance, Bank Norwegian and [indiscernible] Bank had the benefit of the old accounting regime in their rapid growth to profitability. It would not -- it would have taken these banks a lot longer to become profitable under IFRS 9. The upside of IFRS 9 is that even though this decreases our profitability in the short term, it actually increases our profitability in the long term. The fact that we have to take high loan loss provisions on our P&L in the short term will benefit our P&L in the long term. Since more than 90% of our customers renew their credit line every year and income -- and growth in customer income is much higher than growth in losses, a share of income will steadily decline for the average customer. In the old accounting regime, this picture would have been reversed. Even though we expect to add a steadily increasing number of new customers every year for the foreseeable future, the customer growth in percentage terms will decline as our existing customer base grows and matures. And the result is that the loss as share of gross income will converge to well under 25% as our credit line portfolio matures. So how did we do in realized losses and loan loss provisions in 2021? The top graph here shows loan loss provisions and realized losses in million kroner. The middle graph shows the same numbers as a percentage of gross income in the quarter. And the graph at the bottom shows our net interest rate margin after losses. So in 2021, we had NOK 5.6 million in realized losses. All of these came from our spot factoring product. As for credit line, we also take loan loss provisions upfront when buying an invoice. On average, a little less than 1% of the face value of the invoice. If the invoice is not paid on due date, we increase the loan loss provisions every day until either the invoice has been paid in which we set the loan loss -- in which case we set a loan loss provision to 0 or until we no longer believe the invoice will be paid, in which case the loan loss provision is converted into a realized loss. The realized losses of NOK 3.5 million in the second quarter relates to a set of invoices we bought towards the end of 2020 that we later discovered were fraudulent. This was possible due to a loophole in our spot factoring engine that made it possible for customers to create and sell fraudulent invoices. We have, of course, closed this loophole. In total, realized losses accounted for 9% of gross income in 2021 and 5% of gross income in Q4. Loan loss provisions accounted for NOK 16 million in 2021 and NOK 6 million in Q4, corresponding to 25% and 28% gross income, respectively. The combination of loan loss provisions and realized losses accounted for 34% of gross income in 2021 and 33% of gross income in Q4. Our long-term target and expectation is that total losses, realized losses and loan loss provisions over time will be less than 25% of gross income but in line with the very rapid customer growth. But what we have experienced now is in line with the very rapid customer growth we have experienced in this period. However, despite these growth elevated loan loss provisions, our lending profitability is still much better than traditional banks. Net interest margin is roughly the difference between the interest rates on loans to customers and deposits from customers. Traditional banks typically have a net interest rate margin of 2% to 4% before losses, and pure play consumer lending banks have a net interest rate margin of 8% to 11% before losses. Yes, the small business lending segment has high credit risk. And yes, 34% of losses as share of income is very high compared to even consumer lending banks. But our net interest rate margin is over 18%. And even when subtracted -- subtracting realized losses and loan loss provisions, it is still already at 11% the level of the most profitable consumer lending banks before losses. And as our portfolio matures and the growth in percentage term declines, we expect net interest rate after losses to stabilize around 15%, which is higher than any bank that we are aware of. This is the reason why I'm confident that our return on equity will be consistently well above 30% from 2024 and onwards. And I'm going to hand over to Kjetil to walk through the financial numbers in a little bit more detail.

Thank you Halvor. So gross income run rate. We had NOK 7.7 million in gross income from lending in December, corresponding to an annual run rate of NOK 92 million. This represents gross income growth of 99% year-on-year and 14% month-on-month. Our guiding in the Q3 presentation was NOK 85 million to NOK 95 million. So the figure came in at the higher end. Key figures. We surpassed 5,500 customer accounts in Q4, as we can see in the upper left chart. We acquired net 565 new unique customers in total, lower left chart, ending the quarter with 4,910 unique customers. Aprila was by far the largest distribution channel, accounting for 39% of gross new customer accounts added in the quarter. Gross lending, lower right chart, amounted to NOK 362 million at the end of the quarter, of which credit line accounted for 83%. Taking a closer look at the credit line product. We added net 398 new accounts in the quarter and had 2,254 open credit line accounts at the end of the quarter. The most important message from this slide is that the average balance per account is trending upwards. In Q4, the share of accounts with drawdown and the average drawdown increased. The share of accounts with drawdown was 75% at the end of the quarter. You see that in the upper left chart versus 74% at the end of Q3. The average drawdown per account with drawdown, lower right chart, was NOK 177,000 versus NOK 171,000 at the end of Q3. So these 2 effects increased the average outstanding amount per open account from NOK 126,000 at the end of Q3 to NOK 133,000 at the end of Q4. So let's look briefly at the spot factoring product. We purchased invoices with a total nominal value of NOK 637 million in 2021. Spot factoring accounted for 35% of gross income in Q4. At the end of the quarter, we had 3,283 open spot factoring accounts. And in our estimates for 2022, we have assumed that customer accounts onboarded through Visma-owned accounting systems, around 2,100 accounts will be offboarded in the second quarter this year. Loan losses and provisions. We have already spent a fair share of this presentation on that. So I'll just summarize briefly. Loan losses in Q4 came in at NOK 6.9 million as you can see from the upper left chart, NOK 5.9 million in loan loss provisions and NOK 1 million in net realized losses. Looking at this past due, upper right chart. DPD 31 plus increased 30 basis points from Q3 from 5.9% to 6.2%. And DPD 91 plus increased from 3.9% to 4.4% during the quarter. We do, however, see a positive trend in DPD 31 to 90 over the past quarters. And this has decreased from 2.8% at the end of second quarter 2021 to 1.8% at year-end 2021. Measured in percent of gross income, loan losses in the quarter were 33%, lower left chart. And loan loss allowances in percent of gross loans were 6.2% at the end of the quarter, lower right chart. So that was the most important figures for the fourth quarter. So I'll give the stage back to you now, Halvor.

Thank you. So our priorities for the first half of 2022 is to achieve profitability, accelerate growth and continue to strengthen the competitive advantage. Growth in income and customers is, of course, the most important thing and driver to achieve profitability. But in addition, we'll continue to improve the underlying profitability of our business model. We'll continue to increasingly improve our sophisticated risk-based pricing, and we'll continue to drive automation and self-service to further reduce variable costs and allow us to continue growing revenues fast with very moderate increases in cost. The biggest initiatives to accelerate growth is to increase automation and staffing in onboarding so we can handle the ever-increasing application volumes. We'll continue optimizing the approval rates. We're currently only onboarding about 15% of all applications. I believe we have potential to onboard close to 50% of all applications given the right price and the right limit size. This, however, is a multidimensional optimization problem. We'll always improve, but never reach perfection. And finally, optimizing marketing spend. Our big insight this year is that 96% of small businesses in Norway are unaware that we exist. So right now, the priority is to increase that awareness. Our direct marketing is already very effective. We paid less than NOK 800 per marketing-generated application compared to a customer lifetime value of over NOK 40,000. But we believe we can achieve or we can become even more effective by increasing brand awareness. This also ties into the third priority to strengthen our competitive advantage. We want to be the first to take the position in mind space as the digital bank for business loans. When we have achieved this, it will be a lot harder for potential future competitors to break into the market. Other initiatives to strengthen competitive advantage is to continue evolving our probability of default model to be even more precise, continue making the customer onboarding process and experience even more seamless and sourcing more data sources to continuously optimize and feed our risk models. In other words, continue what we're doing to further strengthen the uniqueness of our technology-based business model so that we can further differentiate our future performance from that of traditional banks. When it comes to our guiding for 2020, we expect gross income to continue growing fast, profitability to keep improving, and number of credit line customers to at least double. The reason that our gross income run rate probably won't double is that we, as we have mentioned, expect Visma to take over all our 2,100 spot factoring customers in Tripletex and the accounting during Q2. This will represent a loss of about NOK 25 million in run rate revenues, and this will make it difficult for us to double our run rate in 2022. However, despite the loss of spot factoring income, we do expect our total income for 2022 to double from NOK 50 million in 2021 to around NOK 100 million in 2022. We expect both the second and third quarter to be profitable, the full year 2022 to be profitable. And in Q4, we expect a very strong result with at least 10% return on equity. So that was our presentations. Per Christian, have we gotten any questions from our viewers?

Yes. We have a few questions. Are you ready?

Yes.

From [indiscernible], was the personal guarantee [indiscernible] originally meant for spot factoring customers? And that's -- no. It was always meant for credit line. And the second part of the question is, do you continue to see this as sufficient from a credit risk perspective now that credit line is growing?

The short answer is yes. We believe that it's very good kind of security for our loans. We see that for our few customers who actually go bankrupt and where the claim is transferred to the guarantor, the payback from the guarantor has surprised us positively. On average, the guarantors pay back an average over 3% of the claim per month.

We have a question from Vegard with the congratulations attached to it. A question for Kjetil. Could you help us understand how much of the NOK 6.9 million of loan loss charges in the fourth quarter that could be attributed to a change in nonperforming loan ratio or in -- change in nominal growth in credit lines relative to change in loan loss charges?

That was a long question.

Yes. Maybe break it down to the -- how does the NPL ratio -- how does that affect the NOK 6.9 million loan loss charges in the fourth quarter? There's an increase 2% [indiscernible] points on the quarter? How much in money? Maybe we should reply to Vegard on e-mail.

Yes. Of course, we can discuss with Vegard afterwards. But we have seen an increased share of loans in stage 3 in the quarter. And that's also -- that's sort of natural part of this business because it will -- the stage 3 will only fill up until you realize. So we haven't started realizing an imbalance on the credit line yet. So until we do that, stage 3 for credit line will keep on increasing. So -- and credit line definitely has the largest share of the loan loss provisions at the end of Q4.

According to my understanding, the majority of the loan loss provisions comes from growth. We haven't seen -- we looked at the DPD numbers, for instance. And there is no significant worsening of the payment patterns among our credit line customers if we look at what they're actually paying. So I would say that the majority is from very high growth and IFRS 9.

Yes. Absolutely. And we could also mention that we have a quite strict definition of default. Back in the days, you would say that only loans that were 91 days or more past due were default. There is a new default definition now. So we have a quite large share of our stage 3 loans are unlikeliness to pay exposures, which are not past due, but they are defined as unlikeliness to pay. That constitutes a quite large share of the stage 3 loans as of the end of 2021.

So one more question. This is a really impressive growth in credit line. Are you confident that this will continue, Halvor?

Yes. I'm actually fully confident that this will at least not only continue but continue to accelerate. And the reason is that, as I mentioned, 96% of small business in Norway are not aware that this opportunity exists. Our existing credit line customers are super happy and have started recommending us to other businesses. We -- our marketing is improving from month-to-month. DNB might start marketing credit line to their 160,000 small business customers. So I believe that we have only seen the very small beginning of the growth curve on the credit line.

That's it for the questions.

Awesome. In that case, thank you for -- to all viewers for your attendance. And I welcome you back and looking forward to present our Q1 results in the beginning of May. What was the date again?

May 12.

May 12, we'll present our Q1 results. Q1 will be the last quarter where Aprila Bank is not profitable. So -- but still, I think it will be a good quarter. And I wish you all happy Monday and great week ahead. Thank you.